Monday, September 10, 2012

Today it was time to take a
breather. The stock market and the precious metals universe (including miners)
went all down. What has the Dow Theory in store for us today? Not much.

According to Dow Theory no
technical damage has been made. Thus, the primary trend remains bullish as well
as the secondary movement. Furthermore, none of the markets I closely monitor
has registered a 3% decline from their last recorded highs which is the minimum
threshold for a movement to be meaningful under Dow Theory and no previous lows
(even minor ones) have been broken.

However, I’d like to make some
pertinent observations as to what was the best market to invest
according to Dow Theory when the bull market signal was issued.

If you follow this blog you
know that as per Dow Theory gold, silver, their miners and the stock market are
solidly in bullish territory (go hereto know more). From the
investor’s perspective one should ask? Which market offers to the
investor/trader the lower risk and the best reward? In other words, what market
offers us the best RRR? Gold, silver, the miners, the SPY? Which one?

In my morning’s post “Why Dow Theory matters: Outstanding
Risk Reward Ratio thanks to the Dow Theory’s trailing stop” which you can find here, I explained that
one of the beauties of the Dow Theory is that it provides us with trailing
stops thereby helping us to cut our losses short in case the trend reverses.
However, and depending on price action, not all such “Dow Theory stops” have
the same amplitude. If the Dow Theory signal was given after a modest rally,
then our “stop” will be close enough to offer us a significant reward (big
price advance pertaining to most primary movements) with concomitant narrow
stop (small risk in case of a trend reversal). Please re-read the post, to gain
more insight into this important issue.

Therefore, not all Dow
Theory primary bull market signals are born equal. As you can glance from
the tables below, market action has resulted in substantially different entry
points (bull market signaled per Dow Theory) and hence different stop levels
(the previous bear market low until we survive the first secondary reaction
which will establish new lows)

If you peruse the tables you
will se that the winner is…..

Yes, the winner is the SPY
with a narrow stop loss of only 6.25% (and a likely reward as I explained in
other post of ca. 40% if things play out “average”).

However, gold comes near. The
Dow Theory stop represents a mere 7.41%. If we consider that gold underwent
almost a 1 ½ year bear market (if we follow Dow Theory, it was a cyclical bear
market, in spite of the secular bull market we are in), then it is to be
expected a significant rebound. In Fofoa’s blog, which I highly respect and
recommend for any serious gold observer, they talk of a 50% movement. You can
find the relevant Fofoa’s post here.

While a 50% movement in gold
sounds impressive, it is nothing uncommon by Dow Theory standards. Of course, and
barring a world hyperinflationary collapse, such price gain takes time to
materialize, the time that precisely needs a primary trend to play out.

Therefore, as an investor I'd diversify into both the SPY and GLD. It is always good to split the risk and GLD's stop at 7.41% is low by any standards.

Our conclusion is as follows:
When you spot a Dow Theory primary bull market signal, instead jumping aboard
blindly, look at the risk involved. Where does the Dow Theory stop lie? By
definition in a new trend this means checking the last recorded bear market
low. You more or less know the reward: Your average gain, while not
carved in stone, and if +100 years history is to serve us as a guide, is to
average ca. 40 or more. With this tentative reward, then you can plug in your
“risk” which is given by the Dow Theory. If the resulting RRR is good, then you
know you should invest.

I hope that this post helps
you give “structure” to what looks as a confusing market.

Here are the tables:

DOW THEORY PRIMARY TREND MONITOR SPY

SPY

Bull
market started

06/04/2012

128.1

Bull
market signaled

06/29/2012

136.1

Last close

09/10/2012

143.51

Current
stop level: Bear mkt low

128.1

Unrlzd gain %

Tot advance since start bull mkt

Max Pot Loss %

5.44%

12.03%

6.25%

DOW
THEORY PRIMARY TREND MONITOR GOLD (GLD)

GLD

Bull
market started

05/16/2012

149.46

Bull
market signaled

08/22/2012

160.54

Last close

09/10/2012

167.29

Current
stop level: Bear mkt low

149.46

Unrlzd gain %

Tot advance since start bull mkt

Max Pot Loss %

4.20%

11.93%

7.41%

DOW
THEORY PRIMARY TREND MONITOR SILVER (SLV)

SLV

Bull
market started

06/28/2012

25.63

Bull
market signaled

08/22/2012

28.92

Last close

09/10/2012

32.29

Current
stop level: Bear mkt low

17.08

Unrlzd gain %

Tot advance since start bull mkt

Max Pot Loss %

11.65%

25.99%

12.84%

DOW
THEORY PRIMARY TREND MONITOR ETF SIL

SIL

Bull
market started

07/24/2012

17.08

Bull
market signaled

09/04/2012

21.83

Last close

09/10/2012

22.67

Current
stop level: Bear mkt low

17.08

Unrlzd gain %

Tot advance since start bull mkt

Max Pot Loss %

3.85%

32.73%

27.81%

DOW
THEORY PRIMARY TREND MONITOR ETF GDX

GDX

Bull
market started

05/16/2012

39.56

Bull
market signaled

09/04/2012

47.77

Last close

09/10/2012

49.48

Current
stop level: Bear mkt low

39.56

Unrlzd gain %

Tot advance since start bull mkt

Max Pot Loss %

3.58%

25.08%

20.75%

Now you might ask: "What should I do if I missed the Dow Theory bull signals for the SPY and GLD?. I time allows me to do so, tomorrow I plan to give you the answer. In the meantime, I advise you to wait and read my tomorrow's post.

About Me

Disclaimer/Disclosure

This blog (dowtheoryinvestment.com) is strictly a personal journal applying my interpretation of Dow Theory principles to the action of the stock market and my musings about investment and trading in general. This blog is intended solely for entertaining, illustrative or informational purposes. I am not a registered investment advisor and neither the information nor the opinions expressed should be construed as a solicitation to buy or sell any stock, option, ETF, mutual fund, currency, commodity, or any other security. I am unaware of any readers personal circumstance, financial condition, risk tolerance or goals and objectives, so nothing read here should be considered advice suitable for them. Anyone reading this blog does so with the understanding that this is strictly meant as an analytical exercise and does not proffer actionable advice in any way, shape or form. Trading and investing always entail risk and possible loss of funds and should only be undertaken after appropriate due diligence by the trader/investor and after consulting a registered investment adviser.